BRANDON – With interest rates this low, it’s easy to carry a lot of debt.
But what happens if interest rates jump?
That’s something farmers need to think about, analysts said during several sessions at Manitoba Ag Days held last week in Brandon.
“There’s only one side for the future on rates, and that’s on the upside,” said Michael Hoffart, Farm Credit Canada’s vice-president for prairie operations.
“Would I suggest rates of 18 or 20 percent? I would not be of that belief based on what we’re seeing right now. But for many of us, even an interest rate of 10 percent on our farms would make a huge difference on our bottom line.”
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Saskatoon analyst Larry Weber asked farmers to ponder how their finances would be affected if interest rates rose to eight to 12 percent, while Grant Griffith of Meyers Norris Penny said interest rate volatility is a key risk for farmers carrying a lot of debt on their balance sheet.
Interest rates now are historically low. Because of the recession, rates have fallen to near zero at the world’s central banks, allowing commercial banks to lend money at rates far below historical averages.
That makes debt easy to carry, especially for farmers with variable rate loans or lines of credit.
Central banks have mostly stated that they intend to keep their main rates where they are until mid-2010, although Australia has already increased its main rate.
The Bank of Canada has repeatedly stated it intends to keep its rate steady until at least June.
However, some analysts fear interest rates will rise after that, perhaps rapidly, if inflation appears or credit markets demand more.
Analysts who believe signs of economic recovery are more than a government-funded blip think companies and consumers will start spending again and pressure goods and services prices higher.
Inflation could reignite if the dam of consumer reluctance breaks and money pours back into the economy. The world’s central banks would then quickly move to check inflation by boosting interest rates.
Another school of thought holds that interest rates will spike if economic conditions remain poor and people begin backing away from low-interest government bonds because they appear too risky due to uncontrolled deficit spending.
Governments would have to boost interest rates to attract money to fund their spending.
Either way, almost all analysts are calling for interest rates to begin increasing in mid to late 2010.
“There are … several signs that suggest today’s benign inflation environment may not last beyond 2010, and these need to be closely monitored as the economy moves into expansion,” said RBC Asset Management in a Jan. 12 research report.
“As the threat to the financial system dissipates and economic growth is gradually restored, we expect bond yields to move higher.”
Bond yields move higher when investors demand a higher interest return for funding debt.
Hoffart said farmers need to take their interest rate risk seriously. They should run their finances through simulations of what would happen to them if interest rates increased to five or 10 percent.
Basing a farm’s financial outlook on today’s interest rates could create a false sense of security, he said.
“If you’ve got lots of room in your budget, it’s likely not going to be that critical, but if you’re on the line … (a higher interest rate simulation is) good thing to consider.”
